7 Or. Tax 471 | Or. T.C. | 1978
The defendant assessed Oregon personal income taxes, interest and penalties on each plaintiff's pro rata share of the distributed and undistributed taxable income of Timber Investors, Inc., an Oregon corporation, for the tax years 1973, 1974 and 1975. By agreement of the parties, the four cases were consolidated for purposes of briefing and oral argument.
During the years in question, the four plaintiffs were equal shareholders in Timber Investors, Inc., an Oregon corporation which had elected, through its shareholders, to be taxed under the Subchapter S provisions of the federal Internal Revenue Code of 1954. During the years in question, none of the plaintiffs (all of whom are residents of New Jersey) filed Oregon personal income tax returns.
The defendant's Orders Nos. I 77-23, I 77-24, I 77-25, and I 77-26, denying the plaintiffs' petitions for abatement of the taxes, interest and penalties, were issued on July 28, 1977. Plaintiffs appealed to this court pursuant to ORS
The pertinent statutes are found in ORS
ORS
"Distributed and undistributed taxable income of an electing small business corporation under section 1373 of the Internal Revenue Code, shall be deductible from gross income under this chapter and net operating losses of such corporation, to the extent attributed or made available to a shareholder, shall not be used by the corporation for further tax benefit."
ORS
"(5) Notwithstanding subsection (3) of this section [relating to income from intangible personal property], the distributed and undistributed taxable income of an electing small business corporation for federal income tax purposes derived from or connected with sources in this state does constitute income derived from sources within this state for a nonresident individual who is a shareholder of such a corporation, and a net operating loss of such corporation derived from or connected with sources in this state does constitute a loss or deduction connected with sources in this state for such a nonresident individual."
The court is required to determine the legal effect of subsection (5) of ORS
The questions presented in this suit have been answered in the court's earlier decision, O'Neil v. Dept. of Rev.,
Plaintiffs have relied on two arguments: (1) The federal Internal Revenue Code of 1954, § 1373 (including § 1373(b)), provides that, for the purposes of the federal income tax laws, the income of a Subchapter S corporation is to be taxed ratably to the corporation's shareholders as amounts distributed as dividends. Dividends are intangibles which may be taxed only in the state of the recipient's domicile, citing Curry v.McCanless,
In their brief, the plaintiffs have studied the treatment of Subchapter S dividends by other states and note that they have "solved the problem" in various ways:
*475"a) A corporation with non-resident shareholders cannot elect Sub-Chapter 'S' standing, as defined in the state taxing statutes; e.g., Hawaii.
"b) Taxable income of non-residents does not include dividends or distributions from Sub 'S' corporations, as defined in the state taxing statutes; e.g., Maryland; Colorado; and Illinois.
"c) A small business corporation and its shareholders may elect to be taxed as a partnership, as defined in the state taxing statutes, e.g., Minnesota.
"d) A non-resident must agree to pay [taxes on] his proportionate share of the undistributed taxable income of an electing small business corporation in order for the corporation to make a valid election, as defined in the state taxing statutes, e.g., Oklahoma; Kansas; and Georgia.
"e) A non-resident must agree to pay [taxes on] his proportionate share of the undistributed taxable income of an electing small business corporation, or in the event that he does not file a return, the paying corporation will be required to withhold a percentage of all dividends distributed to the non-resident and to pay it to the state, e.g., Nebraska; and Mississippi.
"f) Corporation is subject to state tax on that percentage of its taxable income equal to the percentage of its stock owned by non-resident individuals; e.g., Delaware; and Utah." (Footnotes omitted.) (Pl Open Br, 6-7.)
The plaintiffs then conclude that Oregon's statutes represent a case of legislative oversight and that the pertinent statutory sections are unconstitutional and unenforceable.
[1.] As stated above, almost all of plaintiffs' objections were considered by the court in O'Neil v. Dept. of Rev., supra, and the court has found no reason to set that opinion aside. As stated in defendant's answering brief, at 6-7:
"In the present case, plaintiff shareholders of a corporation operating in Oregon elected to be taxed under the Subchapter S provisions of the Internal Revenue Code; Oregon taxed their income earned in Oregon consistent with this election. Subchapter S income and losses in Oregon are passed through the corporation and taxed at the shareholder level. The nonresident shareholder's own election to be treated under the Sub S provisions creates a rational basis for taxing that shareholder in accord with that election. This is particularly true in relation to the tie-in of the Oregon personal income tax with the Internal Revenue Code. The fact that other states have chosen a variety of ways to tax the undistributed and distributed taxable income of Subchapter S corporations and shareholders indicates that these states recognize the unique nature of an electing Sub S corporation and its shareholders."
[2.] Plaintiffs' discussion of the laws of other states, treating the income taxation of shareholders' benefits from Subchapter S corporations, is instructive but not determinative of the decision herein. Timber *476
Investors, Inc., is a creation of the State of Oregon and the state has the power, through it, to make effective the policies implicit in ORS
[3.] In O'Neil v. Dept. of Rev., supra, at 472, this court quoted Wisconsin v. J. C. Penney Co.,
"* * * A state is free to pursue its own fiscal policies, unembarrassed by the Constitution, if by the practical operation of a tax the state has exerted its power in relation to opportunities which it has given, to protection which it has afforded, to benefits which it has conferred by the fact of being an orderly civilized society."
Such is the basis for the well-established maxim that, in taxation, substance generally prevails over form.
The evolution of this concept is illustrated by two U.S. Supreme Court decisions. In Spector Motor Service v. O'Connor,
[4.] Following the substance-over-form concept, this court cannot accept plaintiffs' theory that the language of ORS
The defendant's Orders Nos. I 77-23, I 77-24, I 77-25, and I 77-26 are affirmed.
Defendant is awarded its statutory costs and disbursements. *478